Entertainment Licenses: Better to Ask Questions Before Signing…and Avoid Those Nagging Worries Later (Part 2)

November 2002
The Licensing Book

[This is the second of two articles addressing some basic considerations in negotiating license agreements for entertainment character merchandising.  The article that appeared in the October issue of the The Licensing Book suggested conditions to include in your agreements by which the licensor would have to live up to its sales pitch for the property or reduce your royalty accordingly.  Also addressed were a variety of ways that your "exclusive" license might be less than you bargained for.]

Two other areas that should warrant your attention are additional costs hidden in the fine print of your license agreement, and ways to negotiate the "term" in order to reduce your risk.

Issue: Where are the Hidden Costs?

The wording of the question assumes that there are hidden costs lurking in the deal, because there usually are.

For example, if the property includes a major actor, might you discover that use of his or her likeness in your products is not part of the deal?  That those rights have to be "negotiated" with the actor's agent if you want to use them?

If you submit a print ad or TV commercial for approval that includes a still photo or film clip from the movie or TV series, might you be told that there is a separate fee you must pay to the production house or the photographer as well as to the talent, and make contributions to various union pension funds?  If the movie or TV series is animated and likenesses shouldn't be a problem, will you still have to pay for the use of actors' voices in your products or advertising?

How about music?  Even though most original music used in a TV series is owned by the studio, how often have you been told that music rights are a separate "profit center" in the company - or even a separate subsidiary - that has to be paid a fee?  And even when you've paid for the use of the composition of the theme music for your advertising, don't forget that the "performance" is a separate charge.

Some of these are examples where a licensor should cover the associated costs.  In other cases, at the very least, the licensor should commit to obtain the best prices on behalf of the licensee and to disclose them upfront.

Still more costs . . .

Other "hidden" costs can arise from obligations that a licensee provide an "annual report from an independent auditor" attesting to the accuracy of its royalty reports or, even more broadly, its "compliance with the terms of this agreement".  Such reports can cost many thousands of dollars and should not be required of a licensee unless it is guilty of past violations of the license agreement.

Similarly, if the licensee must submit to and pay for inspection and testing by "an independent laboratory acceptable to" the licensor, or if it must use "artists and sculptors approved by" the licensor, who can say whether the fees charged will be reasonable or will penalize you, the "captive audience"?

This brings us to two potentially even bigger hidden costs:  the "common marketing fund",  and the grant of rights " . . . to the extent owned or controlled . . ." by the licensor.  The first of these is a required contribution usually measured as a percentage of the licensee's sales.  Unless the resulting monies are spent to promote the licensee's products and accounted to the licensee in detail, it's really just a royalty increase.  One strategy:  When the basic royalty rate is being negotiated, the licensee might do well to ask whether there is any such required payment and whether the licensor will account for spending it to promote the licensee's products.  The royalty negotiation can then be approached with this element in plain view, rather than have it appear for the first time when the draft agreement arrives at your office.

Potentially the most expensive but least recognized hidden cost is the qualifier to the licensor's grant of rights  " . . . to the extent owned or controlled by . . . ."  What this really means is "We can't be sure, but whatever rights we may have, you can use.  If it turns out that someone else owns part or all of the rights, it's your problem to resolve, not ours, but you still have to pay us."  Sound fair?  Hardly.

All of these hooks, nooks and crannies need to be considered carefully.  If you can't get rid of them, you'd better be ready to factor them into the price you're willing to pay for the property.

Issue:  Is the Term long enough?  Is the Term too long?

No, this isn't schizophrenia.  It's a question that needs to be evaluated based on the alternatives of the success or failure of the property.

On the one hand, if the product line takes off and your rights are for a defined period with no renewal options, you will likely find yourself bidding against your own success to keep your rights alive.  One of your competitors would be only too willing to pay a premium to take over the rights and ride your coattails, now that you've made them valuable.  And don't be fooled by a "right of first negotiation" or even a right to match the best offer - doubtless that offer will be more than it ever would have been for the unproven rights you had the foresight to license.

On the other hand, if you face a minimum annual royalty and the line fails, you may wish you had negotiated for the right to "opt out" even if you have to pay a significant part of the remaining guaranty.  Anything less than the full amount is pure savings.  And the licensor may be willing to price this relief more cheaply if the negotiation occurs up front than if you have to go "hat in hand" after the fact.

These are some of the areas that can cost you sleep if they are not addressed in the negotiation for an entertainment property.  Some others:

Wouldn't it be better to ask more questions before signing on the dotted line?  The adage, "An ounce of prevention is worth a pound of cure" can apply as well to the health of your business as to your personal health . . . and might just enhance both.

The writer is a veteran of 20 years representing licensors and licensees in negotiating entertainment, sports, artwork, brand, invention and technology agreements.  Mr. Kipling is with Frost Brown Todd LLC in Cincinnati, Ohio and can be reached at jkipling@fbtlaw.com, (513) 651-6101.